Senate Finance Committee Proposes Retroactive Depreciation Changes

Published by Michael Novogradac on Monday, November 25, 2013 - 12:00am

Last week Senate Finance Committee Chairman Max Baucus, D-Mont., released the third in a series of tax reform proposals. The staff discussion draft focused on reforming cost recovery and tax accounting rules. The prospective adverse effects of these proposed changes on the Low-Income Housing Tax Credit (LIHTC) market is being discussed. What is getting less attention is the proposal’s  retroactive effect on existing LIHTC investments.  Under the plan, Sen. Baucus proposes extending depreciation periods for taxable years beginning after December 31, 2014.  The depreciable life for residential rental property is extended from 27.5 years to 43 years.  Also, the depreciation methodology for personal property and land improvements is altered. [updated 2013-11-26]

According to an explanation of the proposal released by the Joint Committee on Taxation, “a transition rule applicable to all straight-line property (including real property) placed in service in a taxable year beginning before January 1, 2015, provides that the adjusted basis of such real property is depreciated over a term of 43 years reduced by the number of taxable years for which the property has already been depreciated. For example, assume a taxpayer purchased residential rental property for $907,500 and placed such property in service on June 15, 2005. Under the transition rule, for taxable years beginning on or after January 1, 2015, the taxpayer recovers the remaining basis of $594,000 over 33 years (43 years minus the 10 years the property has already been depreciated). Thus, the taxpayer is allowed depreciation deductions of $18,000 per year for 33 years (instead of $33,000 for the remaining 17.5 years) for the remaining basis.”

Novogradac & Company LLP is currently analyzing the impact retroactive changes could have on yields for existing LIHTC investments.  Our prior tax reform impact analysis is here.  It remains to be seen what impact these proposed retroactive changes will have on investor attitudes and underwriting of current LIHTC investment opportunities.

The staff discussion draft points out that many businesses have already made large financial decisions based on current law and altered depreciation rules change the economic calculus and could make some previously sound financial decisions turn sour. Understanding the difficulty of finding the right balance, Senator Baucus has asked for comments “regarding whether more time would be necessary to effectively implement any provisions of the staff discussion draft.”

The Novogradac LIHTC Working Group will be submitting comments regarding the adverse prospective (and retrospective) impact these proposed depreciation changes would have on the LIHTC community.  Other affordable housing groups should join in the effort.